The Financial Services Authority (FSA) inquiry is examining the varying rates offered to pensioners when they sign up to an annuity, which provides them with a stable income in return for their retirement fund.

Politicians and regulators have raised fears that many Britons of retirement age may be losing out by not shopping around for an annuity, which are bought by 400,000 Britons each year, and simply accepting the offer tabled by their current provider.

Under what is called the “open market option”, people reaching retirement age are allowed to take their pension pot and shop around other providers for the most favourable annuity deal.

There can be a difference of nearly 20 per cent in the rates offered by different providers, which means some pensioners could be missing out on a substantial boost to their incomes.

The FSA, which is replaced by the Financial Conduct Authority (FCA) in April, is examining both the pricing of annuities and how they are advertised to savers in its "thematic review".

Nick Poyntz-Wright, head of life insurance at the FSA, said: "The FCA has set out its vision to make sure markets work well so consumers get a fair deal. An annuity purchase is an important one-off decision that has long term consequences for individuals if they get it wrong.

"We want to understand the level of the potential detriment for consumers if they do not shop around to see if there are ways to make this market work better for consumers.”

Experts have long warned that too few people shop around when they look to buy a stream of retirement income.

Regulators have intensified the focus on the pensions industry following the launch last year of auto-enrolment, which will see all workers automatically enrolled into savings schemes by 2017. Confidence in the pensions system is seen as key to making the scheme a success.

Earlier this month, the Office of Fair Trading launched an investigation into whether employees are being unfairly hit with high charges on existing workplace pension schemes.

Tom McPhail, chairman of the Pensions Income Choice Association, said: “The open market option (OMO) agenda has always been about improving investor’s incomes and the FSA is right to scrutinise this area of market failure.

"With auto-enrolment under way it is essential that investors get the best possible value from all stages of their retirement saving. Important steps are already being taken to improve the OMO market. However this announcement from the FSA serves notice to any insurance companies which aren’t looking after their customers that the regulator has its eye on them.”

Some commentators questioned whether the study would lead to significant change. Christopher Masley, financial planning executive at Duncan Lawrie Private Bank, said: “The annuities market is likely to react to the FSA announcement as if a cold breeze had just blown through. It will shiver at the thought, but ultimately the feeling will pass.

The gap between the best and worst deals

Most competitive annuity provider

Least competitive annuity provider

Annual income difference

Level cover without guarantee (age 60)

£2,465

£2,110

- £355 (-14.4%)

Level without guarantee (age 65)

£2,841

£2,444

- £397 (-16.2%)

Level without guarantee (age 70)

£3,201

£2,762

- £439 (-15.8%)

Level without guarantee (age 75)

£3,818

£3,287

- £531 (16.1%)

Source: Moneyfacts

Investment Life & Pensions Moneyfacts, a data provider, has calculated the difference between the best and worst deals today to be as much as 16 per cent (see the table).Richard Eagling, head of pensions, said: "The extent of the detriment that consumers may face as a result of not shopping around when purchasing an annuity may surprise many who automatically assume that the difference may be negligible on the basis that the underlying product is the same."

The open market option was introduced in 1988 but with take up low the FSA compelled pension providers to disclose to customers that they have the right to shop around. Yet still only around 40 per cent of pension customers do so.

In March, a code of conduct will be introduced by the Association of British Insurers, which represents the industry, that will require its members to prominently display the open market option, remove all application forms from retirement packs and ask investors suitable medical questions, which may improve the income that can be offered, before selling an annuity. Mr McPhail called the code "flawed".

To compound the problems for those reaching retirement, the cost to buy an income has soared in recent years due to measures deployed by the Bank of England to fight the financial crisis.

Keeping the UK Bank Rate low at 0.5 per cent for nearly four years and injecting £375bn of created money money, via a programme of quantitative easing, has depressed the yield on gilts, government bonds: it reduces borrowing costs for the Treasury. But because annuities are linked to the yield on 15-year gilts, it means savers get far less for their money.

Research by the Prudential earlier this month showed people who retire this year can expect an annual income of £15,300, compared with £18,700 in 2008 - a decline of £3,400 or 18 per cent.

• The average standard annuity income for men aged 65 fell by 11.5 per cent in 2012, the biggest annual fall since 1998, when annuity income fell by an average of 13.7 per cent;

• Average annuity income has now fallen in 15 out the last 18 calendar years;

• Overall, the average annual annuity income for men aged 65 years has fallen by 56 per cent since Moneyfacts first started to research annuity rates back in August 1994 - and fallen 50 per cent for women.